普爾特房屋 (PHM) 2017 Q3 法說會逐字稿

Good day, and welcome to the PulteGroup's 3Q 2017 Earnings Call.

Today's conference is being recorded.

At this time, I'd like to turn the conference over to Mr. Jim Zeumer.

Please go ahead, sir.

Great.

Thank you, April, and good morning.

I want to welcome all participants to PulteGroup's third quarter's -- third quarter earnings call.

Joining me today are Ryan Marshall, President and CEO; Bob O'Shaughnessy, Executive Vice President and CFO; and Jim Ossowski, Senior Vice President, Finance.

A copy of this morning's earnings release and presentation slide that accompanies today's call have been posted to our corporate website at pultegroupinc.com.

We will also post an audio replay of today's call a little later today.

I want to highlight that as part of today's call, we will be discussing our reported results as well as our results adjusted to exclude the impact of certain significant items.

A reconciliation of the adjusted results to our reported results is included in this morning's release and within the webcast slides accompanying this call.

We encourage you to review these tables to assist in your analysis of our results.

Also, I want to alert all participants that today's presentation includes forward-looking statements about PulteGroup's future performance.

Actual results could differ materially from those suggested by our comments today.

The most significant risk factors that could affect future results are summarized as part of today's earnings release and within the accompanying presentation slides.

These risk factors and other key information are detailed in our SEC filings, including our annual and quarterly reports.

Now let me turn the call over to Ryan Marshall.

Ryan?

Thanks, Jim, and good morning.

I appreciate the opportunity to speak with you today about PulteGroup's strong third quarter operating and financial results.

We continue to realize top and bottom line growth, driven by the business strategies and capital allocation priorities we've executed over the past several years.

As reported in this morning's release, even with the severe weather conditions in Q3, our 11% increase in signups, 100 basis point increase in operating margin and 40% increase in adjusted earnings per share attested the strong financial performance we were able to deliver.

Before we discuss our results in detail, I want to provide a few comments about Hurricanes Harvey and Irma and the impacts they had and are having on our business.

First and foremost, I'm thankful that we can say that all of our employees are safe, and we're actively working to support members of our team whose lives were disrupted by the storms.

In less than 48 hours, PulteGroup employees contributed well over $100,000, which the company in turn matched to aid any employees impacted by the hurricanes.

While I was not at all surprised by the outpouring of support, it was still gratifying to see.

We were also fortunate in that damage to our communities in Texas, Florida and the Carolinas was minimal.

More specifically, none of our homes under construction, our models or our sales centers were flooded or suffered a significant wind damage.

Depending on the specific market, once the storms had passed, our communities were fully operational within a few days to a couple of weeks.

That being said, the process of closing down and then reopening approximately 175 communities at various times resulted in the loss of numerous selling and construction days across multiple major markets.

These disruptions were compounded by the resulting impact on the consumer in the days leading up to and after the storms.

Rather than estimating the number of potential signups that were lost, we can tell you that the signups in July and August were up roughly 15% over last year, but that increase fell to just 3% company-wide for the month of September, resulting from the disruptions in Houston, Florida and Coastal Carolinas.

Two takeaways from these numbers.

Overall, buyer demand was robust in the quarter, and the slowdowns caused by Hurricanes Harvey and Irma were significant.

Customer traffic has improved in the weeks following the storm, but as I'm sure you can appreciate, the process of recovery has varied by market.

One final point that I would like to make relating to the storms is that while trade labor availability has held up a little bit better than we expected, we're certainly incurring higher prices for that labor and the associated materials.

In addition, municipal resources needed for permitting and/or utility crews to bring power to communities and homes have been strained.

Fortunately, municipalities are beginning to wind down hurricane response activities, which is allowing them to shift more of their resources toward builder-related permitting.

At the same time, the utility crews are being freed up to work on connecting power to new homes.

In summary, the damage from Hurricanes Harvey and Irma could have been much, much worse, but we did and will continue to feel the impact on our business for several quarters.

Despite the hurricanes, there are so many positives to be taken from our third quarter results.

As Bob will detail, we continue to realize meaningful growth in our business with an 11% increase in signups and a 9% increase in homebuilder revenues compared with the prior year.

We were then able to compound this top line growth into 40% growth in adjusted earnings per share.

I would emphasize the point that we are not just growing for growth's sake.

Rather, we're operating in alignment with our strategic focus on delivering higher returns.

For the trailing 12 months ended September of 2017, our return on equity increased by more than 200 basis points over the comparable prior year period and is now above 14%.

Overall, we're extremely pleased with our third quarter and our year-to-date performance.

And with our third quarter backlog at a 10-year high, we are well positioned to deliver strong full year results.

Now let me turn the call over to Bob for a more thorough review of our quarterly results.

Thanks, Ryan, and good morning, everyone.

As Ryan discussed, our third quarter results were impacted by the severe weather that disrupted our business in a number of important markets.

Where possible, I'll highlight some of the areas of impact as I review our third quarter financial performance.

Starting with signups, our net new orders in the quarter increased 11% over the prior year to 5,300 homes.

It's worth reiterating that, as a result of the hurricane, we experienced a meaningful drop in the year-over-year growth in signups in September as compared with our business in July and August.

Our reported Q3 signups were also impacted by cancellations related to a fire you may have read about at one of our 50-unit low-rise buildings in the Boston area.

The building, which was effectively sold out, will need to be razed and rebuilt.

As a result, 33 customers elected to cancel their contracts rather than wait 12 months for the new building to be completed.

We're trying to find other housing options for these buyers, but these 33 cancellations reduced our reported year-over-year growth in signups by about 1 percentage point.

The fire will also impact future closings, which I'll address shortly.

Looking at the 11% increase in Q3 signups a little more closely, we experienced higher sales among our first-time and move-up buyers, partially offset by a decrease in signups among active adult.

For the quarter, signups among first-time buyers increased 24% over the prior year to 1,611 homes, and signups among move-up buyers gained 16% to 2,443 homes, while signups among active adult buyers decreased 9% to 1,246 homes.

The decline in active adult signups was largely due to declines in Houston, Florida and our Coastal Carolina markets related to the hurricanes.

Adjusting for community count, our third quarter absorption pace was up 1% over Q3 of 2016 and reflects a 15% increase among first-time buyers and a 2% increase among move-up buyers, partially offset by our lower active adult sales.

Turning to the income statement.

Home sale revenues increased 9% over the prior year to $2.1 billion as we continued to benefit from the increased investments we have made in our business in recent years.

These higher revenues were driven by a 7%, or $25,000, increase in average sales price to $399,000 in combination with a 2% increase in closing volumes to 5,151 homes.

At 5,151 homes, closings for the period were below the low end of our prior guidance range.

The lower closing volume for the quarter was primarily the result of hurricane-related delays, but delays in permitting and other municipal approvals, particularly in the West, also negatively affected Q3 closing results.

Breaking down our Q3 closings by buyer group, 28% were first-time, 47% were move-up and 25% were active adult.

In the third quarter of 2016, closings by buyer group were 29% first-time, 44% move-up and 27% active adult.

At quarter end, we had 10,439 homes under construction.

Based on our assessment of the current production environment, we currently expect to deliver between 6,400 and 6,700 homes in the fourth quarter.

This estimate reflects the impact of lost construction days, trade availability and municipal processing capabilities in storm-affected markets.

Our Q4 estimate also reflects the loss of all closings from the building in Boston that burned and which had been scheduled to deliver in the quarter.

As noted previously, our average sales price for the quarter was $399,000.

The higher average sales price was driven by the modest mixed shift toward more move-up homes, combined with higher selling prices realized across all buyer groups.

For the quarter, our average sales price to first-time homebuyers increased 5% to $293,000, move-up increased 5% to $467,000 and active adult increased 9% to $390,000.

Looking at our backlog, ASPs also continued to rise, increasing 10% of $431,000.

I would note that geographic mix is impacting this quarter's reported backlog, as higher signups from California, particularly Northern California, result in higher average sales prices.

Looking at our margins.

Our reported gross margin was 23.9%, which is up 50 basis points sequentially from the adjusted gross margin we realized in Q2 of this year and in line with our previous guidance range of 23.6% to 24.1%.

Our gross margins continue to be supported by our ongoing focus on capturing more option revenues and lot premium dollars wherever possible.

For the quarter, option revenues and lot premiums increased 8%, or approximately $5,600, over last year to $76,200 per home.

In the quarter, incentives as a percentage of gross sales improved 40 basis point sequentially from the second quarter of this year but were up 40 basis point compared to the third quarter last year.

Looking at the fourth quarter, we expect gross margins will come in toward the lower end of our previous guidance range of 23.6% to 24.1%.

This estimate considers the impact of the storms, which will result in the delay of certain high-margin closing in parts of Florida, the loss of the building in Boston as well as higher labor and material costs being incurred in certain markets.

Looking at our overheads.

Reported SG&A for the third quarter was $237 million, or 11.6% of home sale revenues, which includes a $5 million charge related to the resolution of certain insurance matters.

Prior year SG&A of $251 million, or 13.3% of home sale revenues, included $12 million of charges for restructuring costs resulting from actions to reduce our workforce as well as costs associated with shareholder activities.

Based on a strong operating performance and the increased leverage on our overheads resulting from the actions we took in 2016, our third quarter operating margin improved to 12.3%.

These results keep us on track to achieve our full year operating margin guidance of 11.7% to 12%.

Note that this guidance excludes the impact of the significant items we highlighted during the first 3 quarters of the year.

Turning to our financial service businesses.

We reported pretax income of $18 million compared to $21 million in the third quarter of last year.

The decrease in pretax income was primarily driven by a more competitive pricing environment for mortgage originations.

Mortgage capture rate for the first quarter was 80% compared with 81% last year.

In total, the company reported pretax income for our third quarter of $268 million, which compares with $212 million last year.

We also reported third quarter income tax expense of $91 million, which represents an effective tax rate of 33.8%.

The slightly lower tax rate relative to previous guidance was driven by certain state tax law changes, along with the benefit from stock option exercises and other employee stock transactions during the quarter.

Looking at the bottom line, we reported Q3 earnings of $0.58 per share, which represents a 57% increase over our prior year reported earnings of $0.37 per share.

On an adjusted basis, the company's Q3 earnings were $0.60 per share, which represents a 40% increase over our prior year earnings of $0.43 per share.

Diluted earnings per share for Q3 was calculated using approximately 300 million shares outstanding, which is a decrease of 42 million shares, or 12%, from 2016.

The lower share count resulted from the company's share repurchase activities.

Turning to the balance sheet.

We ended the third quarter with $197 million of cash on hand after spending $260 million to repurchase 10.4 million shares of our stock at an average price of $25.11 per share.

Through the first 9 months of the year, we've repurchased $660 million worth of stock and expect to complete the target of $1 billion of share repurchases in the fourth quarter.

As always, our decision to repurchase stock is subject to market conditions.

Consistent with prior guidance that our share repurchase activity would modestly increase our leverage in the short term, we ended the third quarter with a debt-to-capital ratio of 42%.

While this remains just outside our targeted debt-to-cap range of 30% to 40%, we expect to move back inside the range in 2018.

I want to also highlight that subsequent to the end of the third quarter, we retired $123 million of bonds that matured.

We also exercised the accordion feature of our bank revolver, providing us an incremental $250 million of liquidity.

Finally, moving over to operations.

We had 10,439 homes under construction at the end of the quarter, which is an increase of approximately 1,200 homes, or just over 13%, compared with the end of the third quarter in 2016.

The increase was primarily driven by higher sold backlog units as specs fell to 22% of homes under construction.

We remain disciplined with regard to production of spec inventory as we ended the quarter with only 576 finished spec homes.

For the quarter, we operated out of 778 communities, which is an increase of 10% over the prior year and is in line with our guidance.

As is our practice, we'll provide guidance on 2018 community count when we release earnings in January.

In addition to our share repurchases, we used $295 million of capital in Q3 for new land acquisitions.

This brings our 9-month spend to $773 million and keeps us on track with prior guidance of investing approximately $1.1 billion in land acquisition in 2017.

During the quarter, we approved 52 new deals, covering approximately 5,500 lives or an average of just under 100 lots per community.

Consistent with our stated goal of wanting to be more asset-efficient and return-friendly, 46% of these lots will be optioned.

Inclusive of the parcels put under control in the quarter, we now own 90,400 lots and control another 48,800 lots under option.

This increases the percentage of our land controlled under options to 35%.

We're pleased with our progress as we continue to successfully build our land pipeline to support future growth while providing added flexibility and greater asset efficiency.

Now let me turn the call back to Ryan for some final comments.

Ryan?

Thanks, Bob.

Before we open the call to questions, let me provide a few comments on the housing market and the demand conditions we experienced in the quarter.

The last release from the Census Bureau reported the seasonally adjusted annual rate of new home sales for the country at 560,000, which was little change from last year.

Based on our results and feedback from our divisions, we would tell you the demand in the quarter generally felt stronger than the government data suggests and more in line with the 5% to 10% growth that many are forecasting.

Certainly, the hurricanes make comparisons and certain market-specific analysis a little more difficult, but overall, we're very pleased with the demand environment.

As has been the case for the past few years, housing demand is benefiting from the strength of the overall economy.

Going forward, we expect that the ongoing job and wage growth, high consumer confidence and historically low interest rate environment can support the continued growth of housing demand.

And while interest rates have moved a little higher, I don't think that the modest increase has had a significant impact on buyer demand.

With an 11% increase in signups, it should come as no surprise that I would say demand in the quarter was solid across most of our markets.

More specifically, we saw generally good demand on the East Coast, although cancellations caused by the fire in our New England division, along with the impact of Hurricane Irma in Florida will distort our reported results.

Signups in the Southeast were positive, although we are still seeing some choppiness at the higher price points in certain communities.

In the middle third of the country, we continue to be pleased with traffic in demand in our Midwest markets.

The incredible flooding in Houston, obviously, impacted Q3 demand in that market, but overall, we experienced good traffic in demand trends in Texas overall.

And finally, out West.

We would consider our Western markets to be among the strongest in the country, with particularly high buyer interest in Northern California, Arizona and Nevada.

Through the first few weeks of October, we continue to see good buyer traffic with the typical seasonal patterns heading into the fourth quarter.

We're looking forward to a strong Q4 and a continuation of the good demand conditions experienced through the first 9 months of the year.

In closing, I want to thank all of our employees for their tremendous work during the quarter.

Whether you were taking care of our customers or each other, I'm extremely proud of your efforts during some very challenging conditions.

Now let me turn the call back to Jim Zeumer.

Jim?

Great.

Thank you, Ryan.

We'll now open the call for questions so that we can speak to as many participants as possible during the remaining time of this call.

(Operator Instructions)

April, if you'll explain the process, we'll get started with Q&A.

(Operator Instructions) And we'll take our first question from Mike Dahl with Barclays.

Just starting off on the kind of the storm impacts and, hopefully, how things have progressed post the quarter or late in the quarter.

So 2 pretty different storms impacting Houston and Florida in terms of kind of types of disruption that we were seeing and damage.

So could you give us a little bit more color on how you're seeing the -- those respective markets recover if one is proceeding or rebounding faster than -- or, I guess, your collective Florida markets versus Houston?

Anything you can give us on how things are -- were progressing over the course of September and early October?

Yes, Mike.

This is Ryan.

As I mentioned kind of at the end of our prepared remarks there, we've actually seen buyer demand rebound quite nicely in both Houston as well as in Florida.

The damage and the implications for the storm were very different in the 2 geographies.

I'll start with Houston.

A lot of the work that's being done there is related to drywall, paint and trim.

And as we indicated in the prepared remarks, we are seeing pretty good labor availability in terms of labor being there, but we are paying a little bit up for that labor, and we've -- as we mentioned in our prepared remarks, we've rolled that into our margin implications for Q4.

But from a demand standpoint, we're seeing that market recover pretty well.

I'll move to Florida.

The damage there was mostly related to cleanup, landscaping and the power grid.

The power grid and kind of the associated power crews that we need to energize new sites, hook up power meters, energize new homes, et cetera, that was definitely strained, as was permitting and permitting-related activities in the municipalities because those community leaders were focused on storm recovery.

We're starting to see that kind of break free, and we're getting back into what I would characterize as a normal environment.

Southwest Florida is the one that I would highlight.

It's a very big market for us.

That's where the hurricane made landfall and some of the most widespread damage was, in a broader sense.

And so that particular market from a buyer demand standpoint hasn't quite recovered to where we would have expected it to.

So I think I touched on everything that you had there, Mike.

Yes, you did and understood.

And I know this is difficult, but if you look at the margin impact that you're forecasting collectively between the delays of high-margin communities, the labor materials, the Boston communities.

Is there any way you can parse out the relative magnitude of those?

And how we should -- if you have any initial thoughts on -- clearly, 4Q is one quarter out.

But as we look out into 2018, how we should be thinking about those impacts?

Yes.

We didn't parse it out, and it certainly has had an impact.

The guide that we gave at the end of our second quarter for the back half of the year was 23.6% to 24.1%.

We had a sequential improvement of 50 basis points over the second quarter going to 23.9% in this quarter.

For the fourth quarter, we still anticipate staying within our guide.

But as Bob mentioned in his remarks, we'll be toward the lower end of that guide and that factors in the impacts that we're expecting from higher labor costs and the loss of those higher-margin communities.

We'll take our next question from Nishu Sood with Deutsche Bank.

This is actually Tim Daley on for Nishu.

So I just wanted to touch a bit on the capital allocation in -- for 4Q and then kind of looking into 2018.

So first, I was wondering how much of the share repurchases have been done quarter to date through, I guess, October 23 or 24?

And then secondly, I just wanted to ask about the land acquisition versus development spend that was guided to previously in the year.

I think it was $1.1 billion and $1.6 billion, respectively.

Are you still on track for that total to be around $2.7 billion?

Yes.

We haven't provided any update on repurchase activity in the fourth quarter.

We did indicate that we currently expect to complete the $1 billion share buyback, so that would, obviously, show that we're going to be buying during the quarter.

In terms of the spend, yes, we had just under $300 million of land spend, brings us to just under $800 million.

So we've guided to $1.1 billion.

We think we will beat just the ground there.

And on development spend, yes, we think we'll be near the guidance we had given at the beginning of the year.

And we'll take our next question from John Lovallo with Bank of America.

It's actually Pete Galbo on for John.

I was wondering if we could focus on Slide 6, Bob giving really good detail there around kind of the owned-optioned strategy going forward and, I guess, just from a higher level.

Is there any kind of timeline out there in terms of how long it would take you just organically to get to that 50% option range?

And I guess, part B to that question would be, is there any reason why you wouldn't target that closer to a 60% or 2/3 kind of option over the long term?

Yes.

It's a fair question.

And I think we've been pretty consistent over time that when we look at optionality, what we're really looking for is market risk transfer.

And so it's not about putting a money source between us and the land.

It doesn't transfer that market risk because I think that's actually too expensive.

So what we really get down to is on a transaction-by-transaction basis, are we able to affect a structure that actually serves both parties where we actually are able to manage our market risk by creating optionality and asset efficiency.

So I don't know that there is a -- we have to be at 50% at any one point in time nor would I say that we're targeting 2/3 or whatever.

If we can get there, great.

But it really is sort of a transaction-by-transaction dialogue.

Pete, this is Ryan.

The other thing that I'd just add in there is, one of the things that is -- one of the things going on in the entire industry is land entitlements are taking longer.

And so part of the reason that we've said the milestones at 50% owned, 50% option is, I think, it gives us the predictability of our forward business that we believe we need.

It also takes into consideration the impact of our Del Webb assets, which tend to run a little bit longer than a Centax or a Pulte-branded communities.

So I think Bob hit the nail on the head.

What we're really looking forward is risk transfer.

More option is generally better, but as a governing guidepost for the organization, we think 50-50 is the right mix.

We'll take our next question from Michael Rehaut with JPMorgan.

I was hoping to focus a little bit on how you think about growth over the next couple of years, understanding that there are different levers, obviously, to create value.

But over the prior -- before this year and prior couple of years, community count growth was a little bit more modest or flattish.

It started to increase, or it's starting to increase.

How should we think about '18 and '19 where you have different peers of yours kind of targeting maybe either mid-high single digit or low double digit overall volume growth?

How does community count growth figure into that as I'm sure you have 1-, 2-, 3-year plans in place?

Yes, Mike, this is Ryan.

We haven't provided any guide to '18 at this point.

As Bob mentioned in his remarks, we'll plan to do that as part of our Q4 call.

We'll give you some guide -- guidance ranges for next year, including community count.

I think you've seen from the land investments that we've been making that we've certainly been growing our land pipeline, which, as you know, will translate into community count and volume growth over time.

We've been -- we have been putting up some pretty strong growth numbers, this quarter being yet another one this year with a 11% growth.

And I think it's reflective of how we've been increasing investments into the business.

We've talked for a while that we want to grow with or even above the market.

And so I think at a broader level, that's how -- how we're thinking about our growth prospects for the future is that we'll be keeping up or growing slightly faster than the market.

I appreciate that, Ryan.

I guess, second question, I apologize, as this was asked earlier.

But in terms of labor and materials in Texas and Florida, how are those markets trending right now in terms of the inflation trends that, obviously, have been an issue even before the hurricanes hit?

Obviously, it's still probably pretty early days, but certainly, I wanted to get a sense if you have any intelligence on the ground in terms of any changes that you might have seen to the labor pool in particular and what kind of expectations that you might have next year in terms of any change in labor availability or cost.

Yes.

So Mike, the -- we're seeing generally pretty favorable availability on labor, but we're paying for it, specifically, in Houston.

That's the place where we're seeing premiums being paid predominantly around drywall, trim and paint labor.

We've been able to keep the labor on our job sites, but we have had to pay up for it.

A little bit of the same thing going on in certain parts of Florida.

Again, the labor's there, but it is coming at a premium, given some of the recovery efforts.

The one that I'd highlight, Mike, that I think has a national impact, which we're paying very close attention to, is lumber.

Lumber was on an upward trend even before some of the catastrophic natural disaster events that we've seen over the last 65 to -- 60 to 90 days.

So that's the one that I think we all need to be paying attention to for 2018.

I think your -- the premiums that are being paid for labor in Houston and Florida, that will subside in time.

The lumber impacts could be longer-lasting.

We'll take our next question from Stephen Kim with Evercore ISI.

Can you hear me?

Stephen.

Are you there?

Yes.

Sorry about that.

I had some technical difficulties there.

Can you hear me?

Yes.

Okay, okay.

Sorry about that.

I wanted to turn the question to land spend and your approach to land.

And I was gratified to hear your answer to an earlier question where you indicated that it wasn't as simple as just simply talking about the share of your land in units, which are optioned.

I agree with that.

It seems to me that the best way to maybe think about it is in terms of land dollars spend.

I think you'd indicated that you spent $228 million in the quarter for acquisition.

I didn't get a development spend number.

I assume it was probably around $500 million, but I want to see if you can confirm what that...

Stephen, just to clarify -- yes, to clarify, it's $295 million of land acquisition spend in the quarter, and development was $382 million.

Okay.

Great.

That's helpful.

Okay.

And so that would bring you at about low 30% of revenues, which is kind of what it looks like you're going to be maybe spending for a year, give or take, a little bit based on what you've indicated your goals were for the year.

And my question relates to what amount of land spend do you think you need to maintain current sales rate.

So if you -- I'm assuming like basically 15% revenue growth, let's say.

If you were to carry that forward and say, we want to run our business to be able to meet that kind of top line, what level of land spend would you need on an ongoing basis?

That's a hard one to answer, Steve, because the mix matters, price points that you're buying, cost of land in the market you're looking at, how much is optioned.

So it doesn't serve to answer that generically.

I know that's not a real answer for you, but it really depends on mix and how you're buying.

We'll take our next question from Ivy Zelman with Zelman & Associates.

Ryan, maybe if you could talk a little bit about affordability.

We get a lot of questions about concerns with the strength of home price inflation.

Are you seeing any pushback from consumers.

And we haven't really seen too much of it, but obviously, your markets -- you're seeing strong demand.

Are you seeing any resistance?

And maybe thinking about mortgage underwriting and what you're seeing on the credit side is allowing any incremental consumer ability to buy pricing power -- despite pricing power.

Maybe give us a little bit of color around the horn, to talk specifically about Northern Cal, which is one of the markets that we've heard a lot of concern around.

Denver and some of the other markets in the Western area seem to be the most concerning to investors.

Yes, Ivy.

What I would tell you around credit availability is, it's generally okay and, in fact, it's gotten better over the last 90 days, specifically with the GSE programs.

The one exception to that is FHA.

FHA, I would tell you, is unchanged.

We are seeing more competition come into the FHA world from the nonbanks, and that's helping a little bit.

But in terms of credit availability on the FHA side, it's unchanged.

I think the False Claims Act -- the prosecution, if you will, under the False Claims Act needs to be dealt with.

And until that happens, I think that the bigger banks are going to continue to be hesitant in underwriting to the full availability of the credit box.

So that's my broader comment on credit availability.

We look at it clearly from the side of the mortgage company, which we have an amazing mortgage company that Deb still runs for us.

Her and her team, they're doing a very nice job.

She helps keep Bob and I fully informed and what's going on in the mortgage world.

When you look at it from the builder side of the business, I wouldn't say that mortgage availability or credit availability is impacting our ability to sell homes.

That being said, we are seeing a little bit of resistance at the higher price points because of affordability.

And I think that's a broader concern that affects the entire business.

There's a little bit more price opportunity at the lower price points, but that's also the buyer group.

It's going to run into a ceiling the quickest in that they have absolute kind of maximums in terms of what they can spend.

So there are a few markets around the country that have been running hot.

And the premium between resale and new has grown larger than maybe what historical trends have been.

And those are places that I think, from an affordability standpoint, we all need to pay attention to.

So hopefully, that helps provide a little bit of color on what you're asking, Ivy.

It does.

Let me ask one other question.

What's your appetite around M&A given that we've seen some acquisitions and maybe strategic opportunities to get into either new markets or maybe bolt-on in existing markets?

Are you in the market looking?

And do you see attractive opportunities?

Yes.

Really no change in our appetite for M&A.

I'd point you back to our capital allocation philosophy, which we defined and we continued to reiterate.

We want to invest in our business in new land acquisition.

And we put M&A in that category.

So to the extent that there's an attractive opportunity from a land pipeline standpoint, and we think we get some added benefits from that acquisition, we're certainly open to it.

The challenges with M&A, as you well know, are the integration challenges.

But if the land opportunity makes enough sense, I think you figure out how to make that integration happen.

So no change in our appetite.

We look at a lot of deals, but really no different than organic land acquisition.

We want to make sure that it makes sense.

And we have a follow-up question from Stephen Kim with Evercore ISI.

Sorry, I got cut off there.

Sorry about that.

So I'm just going to move on to another question because it sounds like the total land spend question wasn't kind of the way you're thinking about things.

But can we talk about the options, which you do have.

Last, I had looked, and again, correct me if I'm wrong, it looked like you're putting down about 9% of the purchase price on your options.

That's a number that I have here from your K. And I didn't know whether or not that was the way you looked at it as well.

And if you could just give us some context for what you generally put down on your options.

And if there's a cap on the amount that you're willing to commit to an option before you actually take it on your books.

Yes.

I've not looked at it in the aggregate the way you just suggested.

But the 9% certainly kind of fits within if you look at deal by deal.

We're typically going to be between 5% and 10%.

There are always unique circumstances, so we might go as high as 15% in some cases.

But I don't think you'd see a store for that.

We'll take our next question from Bob Wetenhall with RBC Capital Markets.

Good quarter and nice job navigating the hurricane disruption.

You guys did great on SG&A this quarter.

There's a lot of cost control.

How much runway is there on the cost side and incremental SG&A leverages we're thinking about next year?

Bob, it's Ryan.

Thanks for the comment on SG&A.

It's certainly been a focus.

I think we've done a nice job getting it tightened up, and we've executed against the business plans that we put in place for the year.

As far as continued improvement on that, we're always going to be looking to improve the efficiency, but any substantial gains in the future would really come with growth of the business.

So that's where I would look to it.

We have done a nice job against the guide that we provided for 2017, and we're certainly kind of proud of that.

We'll look to give kind of future guidance for 2018 in our fourth quarter.

Keep in mind, we did make the accounting change with commissions at the beginning of the year.

So our commissions are fully rolled into our SG&A spend at this point in time.

So I think you pull that out and you look at it in historical terms how we typically have reported it.

The gains are pretty substantial that we've made on the SG&A front.

Yes, well done.

It's a lot of progress there.

I hope it continues.

Wanted to ask you as well about order growth in the West region, which was up over 30%.

And what's driving demand?

And as you're thinking about '18, what are your favorite markets?

Where do you see the most strength happening on a regional basis?

Thanks, Bob.

The West has been very strong.

I highlighted it in some of my prepared remarks.

It's really been driven by California.

California right now is doing well.

And I think you've heard that not only from us, but some of our competitors.

Nevada has performed very well for us this year, as has Arizona.

So those are the markets that are driving the order growth for us in current quarter.

As far as markets for next year, my favorite markets are any place where there is strong job growth.

I think when you look at the underlying fundamentals that will continue to fuel housing demand and housing growth, it's in those markets where we're seeing growing economies and added jobs.

So that's where my bet would be for 2018.

We'll take our next question from Jack Micenko with SIG.

Looking at the balance sheet into '18, land's coming down, you're running the 3-3 strategy.

How do we -- conceptually, how do you think -- how would you force-rank once you fund the business and fund necessary land and development costs?

How would you force-rank buybacks, dividends and deleverage beyond this year?

Yes, Jack, fair question.

And certainly, we'll give you some color on that as we release our fourth quarter to think about for 2018.

But I think, generally, I go back to something Ryan said a couple of minutes ago.

The capital allocation strategy that we put in place back in 2014 still drives our primary decision-making.

So first and foremost, in the business, to your point, next, we want to be able to fund the dividend through cycle.

So we look at that candidly every quarter as we announce our current dividend.

We think about what we want to do with that.

That will be influenced by the cash flow we think the business generates in 2018 and beyond.

And then if we have excess capital beyond that, we'll buy back stock.

I think if you think about it, we've been pretty consistent with that and highlighted that we've probably pulled forward some repurchase activity over the last 18 months through the end of this year.

So leverage becomes part of the dialogue.

We've highlighted that we're a little bit outside of the range that we'd like to operate in being 30% to 40%.

So I think you'll see us want to get back inside that range.

We've highlighted we think it happens in 2018 essentially through earnings.

And then cash flow capabilities above and beyond that, we'll think about how quickly we can and want to grow the business if there is availability beyond that, we'd look at dividends and share repurchases.

So same exercises we've followed for the last 4 years or so.

Okay.

And I think in your opening comments, Ryan, you said sales were running maybe up 15% year-over-year in the first 2 months and then you had the headwind from the storms in September.

You did have pace growth, although modest, but it seems like it would have been higher had the storms not occurred.

So I guess, the question is, are you letting the dog off the leash a little bit on sales pace?

Or is that really more a function of mix?

I'm just trying to get a sense of where we stand on the pace-price debate that we're always trying to manage?

Yes, Jack, it's a great question.

And to your point, we ran 15% up in July and August, which I think speaks to the strength of the market.

September was 3% up and that was, in our view anyway, purely driven by the storm-related impacts.

The -- from the pace-price equation, that's certainly something that we pay attention to in every single community, and it truly is a community-by-community decision that we make.

Our focus is and always has been that we're looking to drive the best possible return that we can for the shareholder.

In some cases, that's going to be pace, in some cases that's going to be price.

So I think we let the dog off the leash where it makes sense.

We're looking for the best financial outcome.

And I think all of our shareholders and investors should take comfort in that.

In terms of maybe the same-store growth or order absorption growth, we're up 15% in first time, which probably doesn't come as a surprise.

I think the entire industry has seen growth with that consumer group, and we are as well.

We were 2% up in move-up, and then we are down 10% in active adult.

And I really put that decline on Florida because we've got such a high concentration of -- high concentration of active adult communities there.

As with Houston, we've got 2 Del Webb communities in Houston and -- between Houston as well as the entire state of Florida.

That's a big part of our active adult business and that's, I think, what drove that 10% down.

And we'll take our next question from Stephen East with Wells Fargo.

This is Paul Przybylski on for Stephen.

Ryan, you spoke a little bit about lumber inflation.

I was wondering if we could get a little bit deeper on what you're seeing on -- from a core excluding the storm impacts on material and labor this quarter.

And then also, if you could give us any kind of expectation on when we might see gross margins inflect on a year-over-year basis.

Well, we had given you guidance coming into the year that we felt we were 1.5% to 2% material labor input cost increases.

We are still in that range, trending higher.

And as Ryan talked about, lumber has trended higher.

You've got the fires in Canada, you've got terrorists.

I mean, there's a lot of things driving lumber rates up.

For us, that's next year business.

The way we buy our lumber, we've got relative constraint on what's going to impact our Q4 deliveries.

So having said that, we're still in that 1.5%, 2% range for the current year.

We'll give you some color on what we think it means for next year when we give our fourth quarter earnings.

So at this point, core cost increases are kind of trending where they thought -- we thought they would be.

The outlier to that is really the Houston and Florida markets that Ryan walked through earlier on the call, where we are seeing some specialized labor input cost increases.

And Paul, I think the guide that we gave on margins for the back half of the year, 23.6% to 24.1%, reiterates the fact that what Bob just talked about what the 1.5% to 2% guide, we're still right there.

Everything is trending the direction that we thought, and we've made the one-time adjustments based on some of the things that have happened that will pull us towards the lower end of that guide for the fourth quarter results.

Okay.

And you mentioned earlier in the call that your ROE was up 200 basis points over the past 12 months.

Do you have a goal for that metric moving into '18?

Well, we'd certainly like it to continue to move higher.

We haven't articulated a goal, and that's something we'll consider as the full set of guidance that we provide for 2018.

We'll take our next question from Carl Reichardt with BTIG.

I had wanted to ask about the land spend so far this year.

I think $775 million is what you mentioned.

Has there been a change in terms of new land, if you look at your current product mix?

Is your new land spend sort of matching that product mix split between first-time, move-up and active adult?

Or is it changing?

I think what you see is it's changing.

We've moved a larger percentage, and it's not tectonic.

There's a shift towards the first-time space, with a little bit less emphasis on move-up.

And Carl, that really reflects some of the commentary that, I think, you've heard from me consistently over the last year since I've been in the chair, where we wanted to be more reflective of what the market opportunity is.

And I think you're seeing that start to happen.

So to Bob's point, not a tectonic shift, but definitely a shift where we started to see increased investment in that first-time space.

It will take time to move the entire portfolio, given the size of it.

But we're happy with the direction that our field operators are taking and assessing the market opportunity and putting capital to work against all buyer groups.

Okay.

And then we've talked about labor and material price increases.

Can you talk a little bit about the land inflation that you're seeing and maybe break it out by market, as it shrinks as a percentage of the overall cost base, which we have not seen very often, I guess?

I'm just kind of curious what you're seeing.

Yes.

That's a hard one.

I mean, I think the market is efficient, and you've got everybody interested.

So we are finding deals, but we are finding them also harder to underwrite, quite candidly.

They are -- the market is pretty positive at the moment, certainly.

And if you think about what Ryan said about which markets is he most interested in, I think everybody would answer that pretty much the same way.

And so the land in those markets gets bid up a little bit more.

Having said that, we're still finding our return characteristics on the land we're buying haven't changed dramatically.

So the market is pretty solid.

I don't know that I want to say market A is up 1% versus another market.

Each piece of land is different.

And we'll take our next question from Alex Barrón with Housing Research Center.

Just kind of wanted to see if you have any guidance on what the tax rate might look like for next quarter?

For next -- for Q4, we've guided to 36.5% being our normalized rate.

We were below that in this quarter.

It's 2 things.

One is, there was a state law change that actually allowed us -- we booked the benefit because our deferred tax assets became a little more valuable because of the state tax rate increase.

We also highlighted earlier in the year that there was a change in the accounting rules that benefits running through from stock option and stock transactions for employees, which used to run through the equity section, now goes through the income statement.

That actually drove our rate down.

But ex those 2 things, 36.5%, we think, is still a good rate for Q4.

Got it.

And as far as the increase in the price of the orders this quarter, yes, I think you noted Northern California as one of the regions that drove that.

But was there any other -- was that also driven by some mix changes?

Or was that just a general improvement in the overall markets?

Yes, Alex.

Certainly, mix matters a lot when you're looking at that.

But the big driver was Northern California, where the price points tend to run significantly higher than any of the other regions that we operate in.

And our business there is more and more concentrated in the Bay Area, which starting prices there start with 6s and 7s as opposed to 2 and 3s.

We'll take our next question from Mark Weintraub with Buckingham Research.

One follow-up was on the lumber and maybe wood products more generally.

If you sense what the raw materials themselves are as a percentage of your total sales, so not including the labor and the installation affiliated with it, but roughly how much is lumber as a percentage of revenues?

If just looking at the lumber and then maybe more broadly, if you threw in structural panels and other wood products, what would that represent as a percentage of sales?

Yes, Mark, the range I would give you, 7% to 10% of total revenue is what the lumber would represent.

In terms of the material or the house cost piece, it can run in the 15% to 20% range depending on the market.

Okay.

Though I suspect that probably includes installation-related stuff as well, just to clarify.

Correct.

That's correct.

It does.

Okay.

And I'll follow back up then.

But -- and then second, in trying to think through the strategy around pricing and pricing power, do you look at it differently when, for instance, you referenced in Texas and Florida labor being up what you think is going to be on a temporary basis versus if you're going into next year and you find that some of the materials are going to be higher for the year ahead as you put it in place.

Do you think about that differently?

Is it how you then go to market and recognize at the same time you're balancing this price versus pace issue?

Maybe a little bit of color on the thought process.

Yes.

The thought process is, Mark, we -- one of the things we've done over the last 3 or 4 years, we put a lot of investment into dynamic pricing tools and pricing strategy as part of our value-creation efforts and value-creation tool set.

We've done a lot of work around dynamic pricing that has allowed us to realize some of the pricing gains and margin gains that we realized over the past 4 to 5 years.

And we'll continue to do that.

So certainly, cost is an input.

We pay attention to it.

We do not price to cost, we price to the market.

And so what you're looking for is what is the market, the market opportunity and what's the market's ability to absorb those price increases.

So it's a little bit of a give and a take, where you were certainly looking to cover the input costs that are going into the project.

But if the consumers are unable or unwilling to take it, that's what you've ultimately got to react to.

The only thing I'd add to that is given the length of our backlog, we have pretty good visibility into our input costs on the construction side of our backlog.

So we're not out a year in advance in terms of the backlog.

And so the way we buy our materials, to Ryan's point, we sell to market, but we know what our cost structure is going into that.

And we'll take our final question from Susan Maklari with Crédit Suisse.

Just quickly -- I know that it's still kind of early probably, but have you gotten any sense from your sales people in Florida that there's been any change in how potential buyers perceive living in the state.

Are they looking to perhaps move a little closer -- away from the coast or anything like that following the storms that could perhaps in the longer term impact them from a psychological perspective?

Susan, this is Ryan.

I may be a little biased because I love the beach and I love the sunshine and I love the water.

And I think the majority of our buyers do as well.

So I say that a little bit tongue-in-cheek.

The simple answer is, no, we have not seen any kind of a psychological impact to the buyers in terms of how they're thinking about Florida.

In fact, it may go the other way that you had what was a 100-year, maybe even a 200-year-type storm event.

And Florida really performed well.

The flooding for the most part was under control, which I think is a testament to the way that we're developing communities and the way the drainage systems are working.

From a wind standpoint, your structures withstood category 4 or sometimes Category 5 sustained winds and performed very well.

Landscaping was really the major -- the landscaping and the power grid, those were the things that were damaged the most.

So time will tell.

Hard to predict what buyers' psyche will do, but we're still bullish on Florida, and I think the buyers will be as well.

Okay.

And then just building on that quickly.

Do you think that given the success that Florida saw in its construction codes and the drainage and all those things that you mentioned that there could be other areas in the country that use that as sort of a basis and start to adapt some of that, especially because, with weather patterns changing, it seems like drainage systems are becoming a bigger issue in lots of different parts of the U.S.?

Yes, Susan, I hope that common sense prevails.

The things in Florida, while warranted, are expensive, and the construction codes and the methodologies that we use there are more expensive than other parts of the country.

So I think you want all good things in measure.

I don't know that you want to necessarily overreact and overbuild where it's not required.

As far as drainage and water retention and some of those things, I'd point to Houston, and it wasn't just our communities.

I think you probably heard from all of our entire industry, the newer communities performed quite well when it came to managing and dealing with the water on the construction sites, especially in the newer development areas.

So I'd like to believe that things are performing about as expected.

And as we continue to cycle out some of the older housing stock and bring things up to current code and current drainage standards, I think things are performing pretty well.

That concludes today's question-and-answer session.

I would now like to turn the call back to you, Jim Zeumer.

Great.

Thank you, everybody, for your time this morning.

We'll certainly be available throughout the day if you have any follow-up questions.

Otherwise, we look forward to speaking with you next quarter.

Thank you.

This concludes today's presentation.

We thank you for your participation.

You may now disconnect.